An Analysis of the Systemic Risks Posed by Fannie Mae and Freddie Mac and an Evaluation of the Policy Options for Reducing Those Risks

Fannie Mae and Freddie Mac are government-sponsored enterprises that are central players in U.S. secondary mortgage markets. Over the past decade, these institutions have amassed enormous mortgage- and non-mortgage-oriented investment portfolios that pose significant interest-rate risks to the companies and a systemic risk to the financial system. This paper describes the nature of these risks and systemic concerns and then evaluates several policy options for reducing the institutions’ investment portfolios. We conclude that limits on portfolio size (assets or liabilities) would be the most desirable approach to mitigating the systemic risk posed by Fannie Mae and Freddie Mac.

The authors thank Andreas Lehnert, Wayne Passmore, Bob Pribble, and Shane Sherlund for helpful comments on an earlier draft. The views expressed here are the authors’ and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the authors’ responsibility.